A MANDATE OF PRICE STABILITY FOR THE FEDERAL RESERVE SYSTEM

In recent years, the rules-versus-discretion debate over monetary policy has taken on new life. In the 1960s, this debate focused on the relative merits of nonactivist policies versus activist stabilization policies. When rational expectations arguments emerged in the 1970s, the debate broadened into three categories: activist policies characterized by rules, activist policies characterized by discretion, and nonactivist policies characterized by rules. This paper presents arguments for a particular example of the latter of these policies…specifically, a monetary policy which accords preeminence to achieving price-level stability. Central to these arguments is a comparison of this hypothetical policy with the actual monetary policy pursued by the Federal Reserve System, which is a type of activist policy characterized by discretion. The comparison suggests that actual monetary policy is more constrained than is generally realized. A rule mandating that the Federal Reserve accord preeminence to achieving price-level stability, then, should not be regarded as a policy which would significantly increase constraints on monetary policy. Instead, such a rule should be regarded as replacing implicit, poorly understood constraints with explicit constraints.     

Audit Firm Tenure,Non‐Audit Services,and Internal Assessments of Audit Quality

We use data from internal assessments of audit quality in a Big 4 firm to investigate the impact of audit firm tenure and auditor‐provided non‐audit services (NAS) on audit quality. We find that first‐year audits receive lower assessments of audit quality and that quality improves shortly thereafter and then declines as tenure becomes very long. Partitioning our sample between SEC registrants and private clients, we find that the decline in audit quality in the long tenure range is attributable to audits of private clients. For audits of SEC registrants, the probability of a high quality audit reaches its maximum with very long tenure. We also find that audit fees are discounted for first‐year audits but auditor effort is higher than in subsequent years. We find no association, on average, between total NAS fees and audit quality in the full sample but observe that total NAS fees are positively associated with quality for SEC registrants and negatively associated with quality for privately held clients. Our findings are important for regulatory policies related to audit firm tenure and auditor‐provided NAS.     

A Model of Shadow Banking

We present a model of shadow banking in which banks originate and trade loans, assemble them into diversified portfolios, and finance these portfolios externally with riskless debt. In this model: outside investor wealth drives the demand for riskless debt and indirectly for securitization, bank assets and leverage move together, banks become interconnected through markets, and banks increase their exposure to systematic risk as they reduce idiosyncratic risk through diversification. The shadow banking system is stable and welfare improving under rational expectations, but vulnerable to crises and liquidity dry‐ups when investors neglect tail risks.     

Disclosure and Recognition Requirements: Corporate Investment Decisions with Externalities*

This paper examines the effects of disclosure and recognition requirements on investment decisions when shareholders have limited liability. Firms' investment projects have either high initial pollution prevention costs or high subsequent clean‐up costs, and their liability for clean‐up costs may be either individual or joint and several. Even with individual liability for clean‐up costs, shareholders' limited liability creates an incentive to select the latter project type and to impose costs on the rest of the economy. This tendency is exacerbated when clean‐up liability is joint and several. We show that a disclosure requirement cannot have an unambiguous effect on the selection of the “cleaner” project. However, an accrual requirement, together with an accounting‐based dividend restriction, is shown to promote choice of the project that imposes lower expected costs on the rest of the economy. Moreover, we find that it is possible for a recognition requirement to have a greater impact in a joint‐and‐several liability regime than in an individual liability regime.     

Does Calculating Retirement Needs Boost Retirement Savings?

Calculating retirement savings needs is often viewed as an essential first step in retirement planning. Yet, little empirical evidence exists to support the value of this activity. This case study examines the connection between calculating retirement savings needs and retirement savings through analysis of an online survey of benefits‐eligible employees at a large Mountain West university. Controlling for a variety of possible covariates, and using an instrumental variable approach, the case study shows that having estimated a retirement savings target increases self‐reported retirement savings. The results provide support for financial educators and planners in their efforts to encourage people to estimate their retirement needs early in the retirement planning process.